Penalty for underpaying

[Pacun]

Will this scenario on April 10, 2020 be correct for a couple who are 40 and 42 years old?

In 2017, MFJ tax liability was $8,000

In 2018, MFJ made $100,000, tax liability was $8,742 and withholding was $7,000 and taxpayers had to pay a penalty.

In 2019, MFJ made $100,000 in W-2 again and tax withholding was 0. Besides the $100K in W2, taxpayers withdrew $100,000 from their 401(k) to purchase their first home. Company didn't withhold any taxes but they withheld the 10% penalty which is shown on 1099-R code 1. For tax year 2019, they will not pay any penalty if they file and pay all taxes owed by April 15th, 2020, correct?

 

[Lion EA]

They will not owe any penalty if they pay 90% of their tax liability via withholding &/or estimated tax payments or 100% of their prior year liability. Because the $10,000 withheld is greater than the prior year $8,742, they will not owe a penalty, just a boatload of taxes. And, 2020 will be a bear, needing to get the 90% right to avoid a penalty without the other safe harbor to fall back on.

[Pacun]

I heard that a high earner needs to pay 110% of prior year.  Is that true and how much do I have to make to be a high earner?

[jklcpa]

5 minutes ago, Pacun said:

I heard that a high earner needs to pay 110% of prior year.  Is that true and how much do I have to make to be a high earner?

When AGI exceeds $150,000, or $75,000 for those married filing separate.

[Pacun]

So in the case above, the couple will become high earners in 2019 but the $10K of penalty withhold will cover that extra 10% that they will need to comply with.

[jklcpa]

16 minutes ago, Pacun said:

So in the case above, the couple will become high earners in 2019 but the $10K of penalty withhold will cover that extra 10% that they will need to comply with.

Yes that is correct.

Also, in your first post, the taxpayers' penalty for 2018 should have been waived because the IRS adjusted the percentage from 90% down to 80%, so while they didn't meet the 100% of prior year exception, they did actually squeak by with 80% of the 2018's liability being paid in because of the $7,000 in withholding (8,742 * 80% = 6,994) .

ETA - also from your first post - if you know they will fall short and be exposed to the underpayment penalty for 2019 , the final payment must be in by 1/15/20, AND even doing that the taxpayer can still have a shortfall in any of the earlier quarters.  If the exception to the penalty has been met though, then YES, it is possible to pay the remaining balance due by April 15th. 

[Pacun]

Nice catch.

So currently it is 90% of tax owed in the current year and 100% of previous year (110% if high earner)?

[jklcpa]

1 minute ago, Pacun said:

Nice catch.

So currently it is 90% of tax owed in the current year and 100% of previous year (110% if high earner)?

Yes, that is correct for 2019.  

IRS gave leeway for 2018 because of the late passage of TCJA and the late issuance of revised withholding tables.

I also added more to my last post too. Sorry for the late edit.

[Pacun]

2 hours ago, jklcpa said:

ETA - also from your first post - if you know they will fall short and be exposed to the underpayment penalty for 2019 , the final payment must be in by 1/15/20, AND even doing that the taxpayer can still have a shortfall in any of the earlier quarters.  If the exception to the penalty has been met though, then YES, it is possible to pay the remaining balance due by April 15th.

Then, let's analyze this. On December 20th, 2019, they got the distribution from the 401(k) for $100,000. They pocketed $90K and $10K were sent to cover the penalty.  Technically they will be liable for a penalty.  The IRS would know they will be liable for some type of penalty because Q1 = 0 withholding, Q2 = 0 withholding, Q3 = 0 withholding and Q4 = $10,000 withholding.

If I am not mistaken, in my scenario, only if the money is distributed on the first quarter they will not be liable for a penalty.

 

[jklcpa]

37 minutes ago, Pacun said:

Then, let's analyze this. On December 20th, 2019, they got the distribution from the 401(k) for $100,000. They pocketed $90K and $10K were sent to cover the penalty.  Technically they will be liable for a penalty.  The IRS would know they will be liable for some type of penalty because Q1 = 0 withholding, Q2 = 0 withholding, Q3 = 0 withholding and Q4 = $10,000 withholding.

If I am not mistaken, in my scenario, only if the money is distributed on the first quarter they will not be liable for a penalty.

 

No.  The IRS doesn't know when the withholding occurs and allows for the assumption that it is ratably throughout the year, and your software will automatically divide it evenly.  IRS knows only the dates that the estimates were paid.

[Pacun]

Excellent. I knew the IRS divides it throughout the year when withholding comes from W-2s but I wasn't sure about the 1099-Rs.